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‘Fallen angels’ are posing the biggest threat to the bond market this year


In the most likely scenario from UBS, a total of $40 billion worth of debt could be downgraded, centered in telecom, energy and consumer noncyclicals. That would only be a small part of the market, though Caprio notes that there’s a bigger risk in Europe.

Should a recession hit, he forecasts that downgrade volume could hit $218 billion, which would be about 18 percent of the total market.

“While disruptive, this would be lower than the $360bn & $310bn in ’05 & ’09,” he wrote.

Ultimately, Caprio warns against betting against the BBB-rated space as “likely premature” though he thinks investment-grade bonds are a better move.

Indeed, investors have been flocking to higher-quality bonds on the near end of the duration curve. Two popular Vanguard ETFs, the Short-Term Corporate Bond and the Intermediate-Term Corporate, have pulled in nearly $5 billion in new cash this year despite comparatively lackluster returns of not much more than 1 percent.

There’s a lot at stake in that area as well — Moody’s estimates that some $1.04 trillion in speculative-grade five-year debt is maturing through 2023 along with another $1.05 trillion in investment-grade bonds. The ratings service said that media and technology represent the biggest part of the maturing debt.

Fixed income in general has been a big preference for investors during the stock market volatility that began in the fourth quarter. Market data firm TrimTabs said the previous three months have seen the biggest cash surge to bonds in all the years its been tracking fund flows.

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